Set in Mumbai, ‘Shehar Aur Sapna’ closely follows the life of two individuals struggling to survive in a place where palatial mansions and grand hotels are flanked by jhopdis and chawls filled with people jostling for space. The protagonist Bhola is a young man from Hisar in Haryana. Bhola arrives in Mumbai to live with his uncle Choudhary Ram Singh while he searches for work in the city. Though Bhola is dazzled by the sights and sounds of the city, he is disappointed to find that not only is his uncle’s residence in a crowded, dirty chawl, but that he has passed away suddenly, leaving him with no place to put up for the night.
Wandering the streets carrying his belongings, Bhola is robbed. The harsh, unfeeling face of the city disturbs him, but he meets a kind violinist, Jolly uncle, who takes him under his wing and introduces him to the many who occupy the footpath. He meets the poet, Deewana, who is also an aspiring novelist, looking to publish his manuscript soon. Deewana is a man of upstanding morals who prefers to struggle to earn a livelihood rather than write songs for films. He also encounters Jolly’s friend, the actor Anwar, who used to be a film and theatre actor in his heyday. In the present, Anwar lives on the street as well, and scrapes by with what work he can find as an extra in films.
That night, as the newly found friends are settling down to sleep, Bhola gets into an altercation with the local goon, Jagga, who demands payment from all those who sleep in the streets in his locality. Soon, caught in a torrential downpour, all of them have to scuttle for shelter, and Deewana’s manuscript is destroyed. Bhola runs off alone, and he finds himself before a large pipe. The pipe is the residence of a young woman, Radha. Radha tells Bhola how she came to live on the streets: she ran away from home after the marriage her father arranged for her fell through when the groom’s family demanded an excessive dowry. As they share their stories, Bhola and Radha become more comfortable with each other, and she lets him stay the night.
The next morning, Bhola applies for a job. He meets Pandurang, a wrestler who gives up the last position in a factory so Bhola can take it. At work, Bhola makes another friend in his co-worker Kaalu, who is also a migrant worker from Panipat. When he gets off from work that evening, Bhola returns to thank Radha for providing him shelter, and brings her flowers. This is the start of a sweet courtship between the two, which soon culminates in marriage.
Meanwhile, Anwar, Pandurang and Jolly have moved into a new section of a nearby jhopdi, and titled it ‘Paradise’, a haven open to all men, but closed to women. Deewana, on the other hand, torn by the loss of his manuscript, has turned into a harsh cynic who ridicules the dreams of those around him.
Radha finds work as a maid, while Bhola tires himself out searching for a home. One day he chances upon a wallet on the street with a large sum of money in it. Though he considers buying a flat with this sudden windfall, Radha advises him against building a home out of ill-begotten money. Bhola goes to return to wallet to its rightful owner, Seth Moolchand Popatlal.
Seth Moolchand is a man of staggering wealth. The opulence of his lifestyle dismays Bhola when he thinks of the many homeless who could be given shelter in a house of this size, and he asks the Seth if he could house Bhola and Radha for a while. The Seth laughs at him and turns him away.
Radha becomes pregnant, lending further urgency to Bhola’s search. Though there is some discord in ‘Paradise’, the three occupants immediately agree to put up the young couple. They all begin to care deeply for Radha, viewing her as the much needed maternal presence in ‘Paradise’. They tell Radha to stop working in her delicate condition, and go out to look for employment. However, their hard-earned money is taken by the contractor who takes rent and a commission for allowing them to occupy space in the jhopdi. He warns them that the jhopdi is soon to be destroyed to make way for high-rise buildings.
While Radha is at home, she befriends a young orphan boy. He tells her that Jagga was forcing him to work in his bootlegging business, and Radha takes him home to protect him. When Jagga turns up there to threaten her, Bhola readily seizes on this opportunity to seek a fight with him. In the midst of their fight, news reaches Bhola of Radha going into labour, and he rushes back to the jhopdi, while Jagga is arrested. Events come to a head as Radha goes into a long-drawn, painful labour even as the jhopdi around them is being demolished.
At the last minute, before the bulldozer razes ‘Paradise’, Bhola’s son is born. Moved by the sight of Bhola, Anwar, Jolly and Pandurang coming together to protect the family, the contractor has a change of heart and halts the demolition for a few days. When Radha recovers, she leaves along with Bhola and their infant in search of a new residence. Their old pipe, unfortunately, has been moved. The small family of three wanders until they come to another old pipe miraculously furnished with a bed and a cot for the baby. When Radha asks Bhola which city they are in, he tells her that it is not a city, but a dream.